Looks like the FED is even more aggressively using short term interest rates lowered beyond prior expectations to encourage business confidence and keep the wheels of commerce moving. The idea is to avert the lack of confidence about the economy being in or close to recession that can become a self-fulfilling prophecy. By lowering the short term interest rate the FED is creating an environment that should “entice” business activity where decision makers see an opportunity to “act” to make a purchase or close a deal with the expectation of a low cost of capital. For example, even though we know from prior posts on this blog that short term interest rates do not “directly” infuence long term mortgage rates, if the FED maintains short term interest rates low for some time, the supply and demand forces on money will lower mortgage rates. So the time is right for prospective home buyers with good credit to seriously begin looking at the cost of renting versus buying. And since there is currently a buyer’s market for homes, home buyers who are qualified by a lender and who are knowledgable about real estate conditions in their desired neighborhoods will be in an excellent position to make outrageously low offers and have them be accepted, without dealing with the multiple offer syndrome. But, this situation will not last. Once people start buying then the herd mentality will take over again and buyers will be dealing with a traditional market with obstinate sellers.
It is definitely the time to start talking with lenders who can offer guidance in maximizing buyers’ credit scores, and getting qualified with the best possible terms.
In a previous post of Jan 16, 2008 I discussed various city programs in Northern California for assisting first time home buyers with downpayment through low interest loans that can be paid off upon refinance or sale of the property. The income qualification to be eligible for such a program may disqualify some with good incomes, but no downpayment. But for families with low to moderate incomes they should definitely look into these city programs. Developers, by law, need to set aside some units for low to moderate income buyers and now cities through their websites are helping to promote the units available from developers. See this example webpage from Dublin,CA. Note that a realtor can represent a low to moderate income buyer and refer them to these properties, but no commission will be paid by the developer.
With interest rates coming down, home buyers who are able to qualify to purchase a home or condo or townhome should seriously consider acting now. Payments for 30 year fixed mortgages are low and home ownership is more affordable now than in recent years of high price appreciation. The price points in the real estate market have gone down, but in many desirable neighborhoods in Northern California the prices have not dropped as much as people think. Rather than sell at a lower price point, where they can afford to do so, homeowners in premium neighborhoods are taking properties off the market and renting them in order to ride out the cycle of price adjustment. So if you see an attractively priced starter home, where the developer or the owner is willing to be flexible with the pricing, you do the math. If you can afford the payments and you can get help with the downpayment, your monthly cost of owning after tax even including mortgage insurance and property taxes may be comparable to renting. Lenders have been chastised by prior loose lending practices and will no longer give you a pass and allow you to sign for a mortgage that you cannot afford. So if your aim is to become a home buyer and you are able to find a team of sellers, lenders and city assistance programs to help you achieve that goal, you should seriously consider acting now. Waiting will just amount to missing the wave of opportunity. Once the market rebounds, it will do so aggressively and you will lose the flexible seller member of your home buying team.
I’ll be updating the list of Northern California city webpages offering first time buyer assistance programs in a future post.
I meet people in business interactions and from time to time receive invitations to join a social networking network such as Linked-In, FaceBook, Plaxo. I have been kind of casual in accepting these invitations and certainly have not initiated or passed on these invitations to others. I’ve got my hands full just playing around with websites, digital cameras in anticipation of having grandchildren and getting into blogging and so I did not want to stretch myself too thin with another time consuming interest. But something happened after I accepted an invitation from a person I just met in California. The next day I got an invitation on Linked-In from a fraternity brother from 30+ years ago with whom I had not stayed in contact. Whoa. The new contact must have known someone who knew someone who knew someone …. who knew my fraternity brother.
It’s the six degrees of separation phenomenon in which supposedly any two people in the country, perhaps the world are connected by six linkages of people who know people. I did a search on ’six degrees of separation’ and found an article describing an email experiment by Duncan Watts, professor of Network Theory at Columbia University, that validated this theory. Check it out.
There’s also a 1993 movie, named Six Degrees of Separation from the book by John Guare, directed by Fred Schepisi and starring Donald Sutherland, Stockard Channing, Will Smith, Ian McKellen, Mary Beth Hurt. I’m going to have to rent the video or DVD. Check it out.
Anyway I have resolved to perform my own six degrees experiment. This came about because, my new HP laptop with Vista on it has got locked up with a file in an Outbox that I cannot delete. Now generally I am fairly happy with Vista and Office 2007. But, I have previously fixed a stuck file in an Inbox by downloading a fix from a community bulletin board. And I have already wasted hours looking up documentation on the Outbox problem and I’m stuck with the virus checker that my office uses that seems to be incompatible with Office 2007 Webmail, which in my experience is exceedingly slow to begin with. As a matter of principle, I refuse to pay $59 to have Microsoft to help me workaround this problem that should not exist and this has prompted me to move to Mozilla Thunderbird AND to put Firefox on the laptop as well. So as I was exporting my contact list from Webmail I discovered that I have over 2000 email contacts. I wonder how many of these folks would accept an invitation from me to join Linked-In? I wonder which of those contacts would lead me to re-connect with someone that I know from years past? After all, how many Chosen Cheng’s could there be?
So if you are receiving an invitation by email to join my Linked-In network, please consider that scientific nature of this request. I look forward to seeing what happens. I will share the results on this blog. If you are otherwise reading this blog and wish to join in you are welcome. Let me know of your interest.
When the FED reduced the overnight FED Funds Rate Rate to 3.5% and the discount rate to 4% it influenced the cost of short term borrowing between the FED and member banks and among member banks. This enhanced liquidity enables banks to have the funds to lend out to business clients at ‘prime plus’ for short term loans and to residential clients for long term mortgage loans. But when banks invest in long term mortgages they generally do not keep the loans in their bank portfolios. Conforming loans have been mortgages up to $417,000 and these are insured by the government through Congress’ creation and implicit backing of the two private companies, Fannie Mae and Freddie Mac. So these conforming loans have a low perceived risk of default and have been readily sold to other investors in the form of mortgage backed securities, bonds that have a price and a yield based on the risk of the pool of mortgages that have been collateralized into the debt obligation (CDO). So the bank sells the loans and frees up funds to loan out again. The interest rate that the bank charges for long term mortgage money will thus vary daily based on the supply and demand for money and the many factors that enter into that calculation of long term risk and potential profitability of the loan. The bank needs to price the money that it will be committing for up to 30 years. So the interest rate of long term mortgages is a very different computation than the rate for short term overnight credit from the FED.
When the FED does lower short term rates it is trying to stimulate the economy and while other interest rates such as mortgage rates will trend down it is not a one for one relationship. Banks and markets do anticipate future moves by the FED in its quarterly Open Market Committee meetings. They pay attention to what the menbers of the FED board of governers say in public meetings reported by the press. And they build those future expectations into their interest rate pricing. So if the FED does something expected and economic scenarios meet expectations then rates may not change in response to a FED move. But if the FED raises rates more or less than expected then pricing corrections will happen.
So, short term rates get connected to long term rates through the inter-relationships of market factors with many investment instruments like stocks, bonds, treasury notes, mortgage backed securities. This discussion is just scratching the surface, I’m sure, but it is fascinating. Note that the Congress is in the process of raising the limts on conforming loans. That will help spur refinancing activity and more homes will qualify for lower cost loans since the Jumbo loans cost more than the conforming loans. Also note that the banks and investment bankers that have taken reserves for losses due to subprime failures are being ‘rescued’ by international investment funds from soverign investors, countries with surplus cash. So instead of just investing in the bonds which tanked, these funds are taking the opportunity to invest in the US financial companies themselves, owning up to 10% of the companies like Goldman Sachs, Merrill Lynch, etc…
The global market is voting with its dollars in the long term health of the US marketplace.
Pat is expressing a common sense view of what should be happening in the long term mortgage markets with the FED lowering short term rates. I’ll be discussing that topic in tomorrow’s PowerPoint post, but I had to get this link to Pat’s blog post posted here today as it relates to questions many people are asking.
The Discount Rate is the interest rate that banks pay to borrow money directly from the Fed. The FED Funds Rate is the interest rate that banks pay when they borrow money from each other in the US. The 1 month LIBOR Rate, the London InterBank Offered Rate, is the interest rate that banks pay to borrow money from other banks for 1 month typically in the international wholesale money market in London. LIBOR is the base rate that is used on most adjustable rate mortgages (ARMs).The Prime Rate is the base rate that is used for most consumer loans such as credit cards and home equity lines of credit, as well as most small business loans. Prime and LIBOR are influenced by the FED Funds Rate, but LIBOR can differ based on how independent the European Central Bank views its lending risks over and above its knowledge of what the FED is doing.
For consumers in the US, your current payment on a variable interest rate loan will drop due to the FED move. That’s why you selected an adjustable rate loan in the first place. You benefit when the rates drop. Many people are looking at this opportunity of anticipated low interest rates to refinance a current loan, whether a fixed or adjustable rate loan. Rates on these loans are driven by the market for Mortgage Backed Securities that trade on the bond market. So shop around for the best mortgage products if you are refinancing. Loan brokers and bankers will tell you that all lenders get their funds from the same place or places, but a quick glance at the comparable rates of conforming and jumbo loans from different lenders over the past three days shows that rates can differ. (See charts below) Not all interest rates of all loan products will be the same. It pays to shop around or work with a loan broker that you trust to shop around for you. Refer to the Good Faith Estimate post on this blog several weeks ago for a strategy to be in control of your refinance process so you can make a refinance decision in which you are confident.
Here’s a good explanation of the difference between short term and long term interest rates. The FED Funds Rate influences short-term interest rates, not mortgage backed securities in the bond market, the key driver of long term mortgage rates. Link to HSH Financial Publishers. I’m putting together a PowerPoint slide that shows the players in the short term and long term interest rate eco-system and will publish it tomorrow. It’s reminiscent of college and busienss school economics courses, but a good example of how you can read the Wall Street Journal and stay abreast of changes in the financial system that affect us all.
The Bernake FED decision to lower the discount rate by 0.75 point to 4% and the target Federal Funds Rate rate to 3.5% has been in response to worsening conditions in the Stock market. These lower interest rates are intended to make money more available to businesses that make decisions that result in expanded sales and creation of jobs, but not so much more available that excessively low interest rates contribute to bad business decisions like speculation and overly risky lending. That’s a tough “row to hoe” or line to walk as we have seen from the interest rate medicine that the Grenspan FED administered to the economy in the early 2000’s.
Of course, I have been on the phone talking to clients and prospective clients about the new FED rates. The reason for doing this is that everyone expects the mortgage rates to drop in response to the FED action. But, in reality what happened today was that banks literally posted rate increases. There is a daily rate sheet that is sent out to brokers. Today a second mid-day re-pricing took place with interest rates on fixed rate conforming (less than $417,000) mortgages going up by almost 3/8th point.
I will be elaborating on this phenomen further in tomorrow’s BLOG post, but here is a BLOG to read that helps explain the causes of this rate increase in response to the FED’s rate decreases. Check it out. And for those of you who are into getting advance information on mortgage rate changes before they are known at the retail level, note the future service that this mortgage blog intends to offer.
A reader asked about how the Prime rate compares to the 1 mo LIBOR rate. Some loans are based on Prime as an index instead of the 1 mo LIBOR. Here’s a comparison of the PRIME rate with the 1 mo LIBOR and the FED Funds Rate. You can see that on average the PRIME is 2.8 points above the 1 mo LIBOR. I get this data from searching online databases from the St. Louis FED and other reliable sources. The conclusion from looking at these data is that the various indexes on which variable loans are based do move in roughly the same upwards and downwards directions in roughly similar time frames.
Just make sure that you ask the right questions of your banker or broker that enable you to know what you may be signing up for. The interest rate of your loan will be based on an index plus an additional percentage called the margin. The margin may be 2.5 or more points. So the interest rate of your loan if based on 1 mo LIBOR would be 3.90% plus 2.5% or 6.4%. Ask if you can buy down the margin of the loan. An upfront fee of a certain number of points can reduce the margin to something like 0.75%, so the interest rate would be 3.9+.75= 4.65%. The return on investment of buying down the margin is usually very good and is something you should consider if you plan to keep the property for an extended period.
Some creative loans tempt you by giving you a lower starter rate for the first year or more. Make sure that you know how the loan will adjust over time. You may find that you pay for those starter or teaser rates by having the loan adjust way above the prevailing rates in year three or four or five. If you are in a position to refinance out of a particular loan you can do so, but that is paying good money for refinancing that could go towards paying off the loan. Are you thinking about paying off the loan or about using the home as an ATM machine to take advantage of appreciation? What if there is no appreciation or negative appreciation? You could find yourself in a situation where you cannot refinance and are unable to make the higher adjusting payments. These are questions you should ask yourself before signing on the dotted line. Don’t just take the word of your broker or banker as gospel. That is what has contributed to many people being in financial distress in this correcting market where appreciation is not happening as much as people had been counting on. Ask around and get answers to important questions. You’ll make a better mortgage decision, one that you can be confident in.
Would you like to own investment property in areas of the country that have not yet experienced the kind of price inflation that has made California real estate so expensive? It’s not a question of whether or not California real estate will appreciate in the future once the current multi-year correction is over. California real estate will always respond to forces of supply and demand and so will likely appreciate quite nicely in the future. It is a question of the affordability of real estate. As an investor your goal should be to have your money working for you in markets that are affordable and safe and secure and appreciating over the long haul. That certainly is true of multiple regional markets in the US that have good rental demand and good employment prospects for tenants. While some of these regions are inside California there are many others that are outside of California.
In this buyer’s market it is a good time to make your moves to invest. Builders are eager to move their brand new properties and work with you to offer an attractive investment opportunity. There are savvy investment networks that have emerged that help you do the research and make the investment decisions appropriate for your needs.
Here’s a strategy for a working couple in their 50’s who have owned their home in the Bay Area for years and have substantial equity accumulated. They have paid off their mortgage or almost paid it off and since the home is now worth seven figures they are sitting on top of substantial equity. Dave Andrews, author of Missed Fortune 101 suggests that the value of the home is the same whether or not there is a mortgage on it. That really does seem to be true. The value of a home is more based on comparables in the neighborhood. So is it smart to leave the equity in the home by paying off the mortgage and owning the home free and clear or is it smarter to position yourself to be able to tap into the equity of the home? Of course, the answer depends on your personal financial situation and your future goals.
Let’s digress for a minute to note that “tapping” the equity of the home means doing something like refinancing a full first mortgage or taking out a HELOC (home equity line of credit). It is possible that even in this new market of higher lending standards homeowners with one or two good jobs in the household can tap that equity on good interest rate terms. Most people in their 50’s or 60’s would not want to incur another 30 year mortgage obligation first mortgage and so they think a HELOC that has minimal upfront cost, but higher interest rate is better, since HELOCs are limited in the percentage of the home equity that can be tapped typically to 25% and are designed to be paid off in 10-15 years. There is a new home finance tool that is designed to be a ”power tool” that enables tapping up to 80% of equity and is also designed to be paid off in 10-15 years. It is the Home Ownership Accelerator. www.cmghome.com Keep this in mind as you read the rest of this blog.
The FED is expected to continue lowering interest rates to fend off or reduce the effect of a recession. The European Central Banks are expected to follow suit. So fixed and variable mortgage rates are expected to trend downwards in 2008. Homeowner investors are using the Home Ownership Accelerator to refinance their mortgage at these anticipated low rates. The HOA enables homeowners who are savers to pay off their home loan in a short time, since it treats the daily balance of the homeowner’s accumulated bank deposits as reduction in the home equity line of credit. These funds are compounded daily instead of monthly like a regular mortgage. Their bank deposits work hard for them in the HOA account and are so beneficial that the homeowners are motivated to transfer surplus funds from CD’s and money market funds into the HOA . This further reduces the amunt borrowed and lowers interest expense on the HOA. The working couple can thus pay off the new home loan quickly AND use the equity freed up from the refinance to invest in their investment property portfolio. With the HOA they do not have to draw more than they need from their home equity. They have access to 80% of their home equity, but do not need to draw on it until their investment needs require. So their cost of capital is minimal.
For homeowners who have the bulk of their child rearing costs behind them and who are now focusing on catching up with their investment plan, aiming for retirement in 10-15 years, this is a good time to catch up. Prices of investment properties are lower in this buyer’s market and interest rates are lower to fight recession. Take advantage of builders’ needs to move their newly completed homes. Be selective and invest only in areas that have solid rental demand. Use the latest finance tools to help you make good decisions and manage your investments. Work with property managers in the destination locations to help ensure high occupancy of your rental properties.
I am working with investors who are actively pursuing the investment strategy described above and will be blogging on what we are learning in the process. Here are a couple of investment clubs focusing on out-of-state investing. Conferwithus.comICGRE.com
I got my first legitimate comment on my BLOG today. There was another prior comment from a friend and another from a person or website that excerpted one of my posts and plastered a bunch of ad links on the blog page. I thought that this latter comment was somewhat parasitic and not adding any value to the blogosphere so I declined the comment.
But, I’m excited to engage a real reader in a dialog about the LIBOR and the FED Funds Rate. Hey, I’m no expert, but I do read the paper and love to have discussions. The comment was pertaining to my post on Fixed versus Variable rates. I compared the 1 month LIBOR and the FED Funds Rate which are very close to each other to the 30Year Fixed Rate Mortgage. The commenter asked about how the LIBOR and the FED Funds Rate differed since they are certainly close to each other, but not exactly the same.
You can read my response at the Jan 4, 2008 post.
Here are some more detailed charts comparing the 1 month LIBOR and the FED Funds Rate.
So you can see from these charts that there is a difference between the FED Funds Rate and the 1 mo LIBOR, but a minor one. On average the 1 month LIBOR is only 0.2% higher than the FED Funds Rate. It’s small. The LIBOR also lags the FED Funds Rate down and leads it going up.
I look for news that European Banks are concerned about European business conditions and about lending to each other as an indicator that LIBOR will be temporarily higher than the FED Funds Rate. That has happened in recent months, but the LIBOR is now returning to a traditional relationship with the FED Funds Rate. See the projected rates in January 2008.
News that the government and the FED are working out an economic stimulus package to avert a major recession suggests that interest rates will be lowered, not raised to fight inflation. Also despite concerns of losses by financial institutions related to real estate loans going bad, there is money flowing into those firms from overseas investors. (World rides to Wall Street’s Rescue, by Enrich, Seidel, Craig Jan 16, 2008, Section A1). Just like investors look to get a good deal by rescuing homeowners in distress through short sales and banks in distress through buying REO foreclosures, major players in global investment look to get a good deal by rescuing US banks and financial institutions. These investors are putting in billions to help cover loan losses and are essentially buying piecee of the US financial infrastructure for cheap. This is free market capitalism on a global scale.
So, even though there are more shoes to fall with companies announcing the effect on profits of more bad loans, the global financial system is under repair even as we wring our hands and try to place blame for loose lending practices of the past few years.
So, it seems to me to be a good time to figure out how to take advantage of good buys in the real estate market. Figure out how to hedge your bets that prices may drop some more. Lease options? Seller carryback seconds with negotiated debt retirement clauses? In many desirable locations prices have not gone down much at all compared to the ”Woe is us” newspaper headlines. Ask your realtor for stats of the areas that you wish to live in. And the most desirable areas will be the first to rebound big time. We all know that it is hard to precisely time any market peaks and valleys. So think strategically and look at buying real estate as a long term investment, not a way to flip short term bucks.
My daughter is looking to buy a first home. She and her fiancee have a good six figure income between the two of them, but even with some financial help from family, they do not have down payment of $100,000 to $200,000 for a California “starter home”! They have some alternatives to consider.
1. purchase a condo or townhome for less money than a single family home and in time “move up” to a single family home when equity appreciation helps them accumulate a larger downpayment.
2. purchase a more affordable single family home quite a distance away from their jobs and commute to work for hours and hours.
4. Continue to rent in California, but purchase non owner occupied rental property in parts of the country that have not yet experienced a price run up. Homes in these areas are still available for $200,000 and downpayment of 10% is only $20,000 which can be saved up by a first time buyer. Then by working with an investment group that specializes in helping California investers learn about and research out of state properties and by picking up and renting out two or three properties in the next couple of years they could build up enough equity to refinance and actually choose to put down on a California property. I would not recommend selling the rentals and incurring a tax event, but just pull some cash out within the tax laws to perhaps purchase a duplex in California. She could live in one unit and rent out the other. It will pay off to minimize the cost of the primary residence and maximize the dollars invested in rentals. Your home is a consumption item and the rentals are the true investments. Within five years she woould be in a position to 1031 exchange her rental properties into larger apartment buildings, for example. Her net worth and cash flow would be enough to be able to afford a high end California home. She will get to a goal of living in a dream home by investing and letting investments compound for her and not by stretching and scrimping to buy a first home and eating potatoes for years.
Here is a link to some real estate invesment clubs, some of which will focus on out-of-state investing.
5. Take a creative real estate finance course and find sellers who are desperate to sell. Solve their cash problem and negotiate a purchase with equity built into the deal.
6. Purchase a short sale or foreclosure property from a bank or at auction.
7. Make a lease option offer to the seller. In a buyer’s market it is likely that a seller is motivated to sell and if that is not possible at the right price the seller would prefer to rent out the property, generate rentalincoem to help cover the cost of the current mortgage, and then sell when the market improves. The prospective buyer can make a lease option offer to the seller that is win-win. Seller gets a conscientious renter who will take care of the property and pay rent so seller gets help carrying the property. Buyer gets to move into the property and live in it, gets a first right of refusal to purchase within a certain time frame and under certain negotiated pricing and terms. The terms would involve a certain option price, payment terms of the option, conversion terms of the rent into contribution towards purchase, method of setting sales price when option is exercised. This gives the buyer time to accumulate downpayment and assess the property while living in it. While the seller will wish to lock in the pricing up front, the buyer may be able to negotiate a pricing process that involves getting a current appraisal at the exercise of the option and so be somewhat protected from buying high in a declining market.
Everything is negotiable and if the buyer listens to the needs of the seller he or she can make a good offer that is truly win-win.
Here are links to the websites describing the first-time buyer assistance programs of several cities in the Bay Area. They are basically programs for qualified first time home buyers offered through city agencies in cooperation with participating lenders. These lenders are willing to loan on a home with part of the downpayment coming from various city, county, state and economic development agency programs. The goal is to help first time buyers that may not have down payment funds. Buyer qualification is based on income level. Income of all inhabitants, including roommates, must be no higher than 80% of Area Median Income (AMI). That would be $53,000 for a family of two in Oakland. Properties eligible are single family homes, owner occupied, below a certain price point, for example, $503,500 in Oakland, CA. The home buyer must contribute at least 3% of the home value from personal savings, but can borrow up to 75,000 at 3% simple interest with no payments on the downpayment loan until the home is sold, refinanced, or converted to income property. At that point the loan is to be paid back in full with accumulated interest. Of course, the buyer has to qualify for making payments on the primary 80% loan.
This type of program would enable a first time buyer to borrow up to $75,000 of the purchase price for downpayment. This would be about 15% for a $503,500 home. The lender would lend around the 80% level and the buyer would ante up a minimum of 3%-5%.
For first time home buyers with limited income and limited downpayment these programs help.
I have been discussing with my kids who are in their 20’s the best way to get into homeownership in this buyer’s market. Of course, their mother and I have been encouraging them to establish living on a budget, ideally to live on 70% of net pay, which is about 50% of gross pay. Where does this come from? Well, roughly, federal and state taxes and social security take a chunk of 30% of gross pay. Then set aside 10% of net pay for liquid savings, 10% for investment, 10% for charity. So if Net=.7 x Gross, and Living= .7 x Net, then Living = 49% x Gross. Living also includes paying student loans and credit card balances. So the message is to continue living like a student and not to radically escalate their expenses until they have a nest egg to leverage themselves into home ownership and other wealth building ventures like an entrepreneurial side business.
Now, this is easier said than done. And we have already passed the mark of our kids commenting with amazement and bewilderment on the amount of money withheld from their paychecks. So they are getting to be goal oriented about advancing in their careers and building net worth. It would seem to be a wise move to get into home ownership on the right terms and at the right price in this buyer’s market.
I am going to talk about some options for my kids as first time home buyers. Tomorrow I will highlight some first time home buyer programs offered by various cities. Next week I will discuss creative financing options working with sellers and also lease option possibilities in which the buyer and seller arrive at a win-win solution.
I have been working with several clients who are looking to refinance their Adjustable Rate Mortgages as those mortgages are scheduled to reset upwards this coming year. In prior years with an appreciating market a new appraisal was likely to be higher, enough to make the refinance feasible and enough to even cover the refinance costs so there would be no out-of-pocket expense to the homeowner. Currently the challenge is that all over the country there are geographical areas designated as declining in value. Link In such areas, lenders apply a rule of thumb of downrating appraisals by 5% to give themselves a buffer. Clients who have loan amounts with loan to value ratios that are at the limit of lenders’ ranges have been aware that appraisals may not come in with adequate value to enable the refinance to pencil out. And with a declining market designation for their locale the problem is even worse. So what is a homeowner in such a situation to do?
The Wall Street Journal, Friday Jan 11, 2008, wrote about Countrywide, the country’s largest mortgage issuer, being potentially acquired by Bank of America. BofA had made a $2 billion (16%) investment in Countrywide earlier in 2007 and now is seeking to become a dominant mortgage lender by taking on $30 billion in Countrywide home equity loans to add to its own $100 billion in home equity second mortgages. Of the $30 billion, there are “$26.84 billion of option ARMs which allow borrowers to start with minimal payments and face far higher ones later.” The article further states that “Bank of America will have strong incentive to work with Countrywide borrowers to minimize delinquencies and other problems.”
Thus home owners with Countrywide mortgages should inquire if Countrywide will work with them to rework their mortgages to be a win-win situation in this market. It is far better for Countrywide and Bank America to work with reliable clients who may be able to continue making payments even if less than full amortization level than to reset payments to the point where the homeowner falls behind and is unable to catch up. In a normal market, the inability to make full amortization payments indicates an occasional problem on the part of just a few borrowers. But in this market it is expected that there is a large number of homeowners that will be reset into ”payment distress”. This situation was caused by lending standards in the past five years being overly liberal. Borrowers were not always qualified by lending underwriters at the full loan amortization level and homeowners using the new “convenience” stated income loans may have overstated their true incomes, anticipating raises by the time the rates would reset, raises that may not have materialized. So rather than reset these many homeowners into foreclosure the bank is likely to work with the homeowners on some win-win basis covering several years.
Likewise, other mortgage lenders like Washington Mutual are also likely to be looking to “partner” with a larger bank or other financial institution and so WaMu offices are also likely to want to work with its homeowner borrowers. Expect if you are a borrower in good standing that WaMu will be willing to work with you so its accounts look as good as possible for an acquirer or other investor.
If your Option ARM mortgage is coming up for reset and you have an appraisal and loan-to-value challenge, open a dialog with your current lender to explore win-win solutions. If you’d like a free consultation on this matter contact me. If your best solution is to work with your current lender and not refinance with me, I’ll tell you so. By building your trust I hope to do business with you in the future.
You may be in a position to significantly improve your mortgage situation. If you have equity of 20% or more and strong income and desire to stop treading water with your mortgage, get out of the Option ARM mortgage altogether and into a better mortgage solution, such as a Home Ownership Accelerator. This product is an innovative home finance solution that maximizes your return on savings. You will be able to pay off in half the time without changing spending habits and you may be able to tap into your home equity to make sound investments that leverage your net worth. For more information on the benefits of the HOA, see other posts in this BLOG. Link
The Jan 8, 2008 Wall Street Journal (Section C1) talks about the Bank’s CD Price War. Since the FED has lowered the federal-funds target rate to 4.25% some banks have followed the FED’s lead and lowered rates paid to depositors, but other banks and financial institutions like Countrywide Financial Corp. and E*Trade Financial Corp. are in need of deposits to fund loans and build up their capital levels. Why? It’s because these institutions have set aside billions of dollars to cover loans that have gone bad due to existing foreclosures and the expectation of foreclosures to come. So they need more deposits to keep the financial wheels rolling. To attract deposits from savers they offer higher interest rates on bank accounts and Certificates of Deposit (CD’s) so consumers who are savers can now earn 5% on one-year CD’s and 4% on bank accounts at Charles Schwab. The article warns that banks are collecting less interest on loans because of the FED’s rate reductions, but if they are paying more to attract deposits, the banks will be in a profit squeeze.
GMAC, as a large player in the subprime mortgage market certainly has also been affected by the need to cover bad loans. But, GMAC Bank in partnership with CMG Financial almost three years ago did something innovative that can offer homeowners who are savers a very special benefit above and beyond a slightly higher interest rate on deposits. These two financial innovators partnered to introduce to the US market a home equity line of credit with an attached full service bank account, called the Home Ownership Accelerator. Consumers think of HELOC’s as being in the same position as a second mortgage, not a first mortgage. So HELOC’s are thought to be 15-25% of the value of a home. But the Home Ownership Accelerator is a first position HELOC and the line of credit can be up to 80% of the value of the home. This allows for the HOA to be a financial power tool for savvy homeowners. They earn interest on their bank deposits at the level of their mortgage, typically 6-8%, much higher than what other banks are offering. And since the bank account and the line of credit are combined, any deposits essentially reduce the amount of the line of credit borrowed and so reduce the interest paid. For a homeowner who is a saver, this can result in paying off the home loan in half the time and reducing interest expense by hundreds of thousands of dollars. The HOA more efficiently rewards savings than the tax law subsidizes interest expense. Home loan interest expense is calculated monthly, but interest paid on deposits is compounded daily so deposited dollars compound faster than interest expense dollars. Also, instead of paying income tax on interest earned from bank deposits and CD’s those dollars instead simply reduce the loan balance and thus are not taxed twice like other investment returns. Naturally the home owner still gets the benefit of income tax deductions on whatever interest is paid, but think of the hundreds of thousands of dollars not paid in interest expense that can be invested.
Savers who are also homeowners with a mortgage should look into the HOA financial power tool to see how much they can benefit. Ask to be shown the HOA simulator at www.cmghome.com
Robert Kiyosaki, author of Rich Dad, Poor Dad, advises us to build assets that generate passive income. Douglas Andrew, author of Missed Fortune 101, advises us to not let our equity sit idle. It is important to set personal financial goals and work with the best tools and plans available.
You are a savvy home owner and investor with strong finances and you wish to maximize your results. In the next 5-10-15 years what if you could save hundreds of thousands of dollars of mortgage interest expense by repositioning your money where it will do the most good for you? We’ll tell you what the banks don’t want you to know.And then what if you invested those dollars wisely? Interested to learn more?Most people would say that they’d love to have more investments in the stock market or bonds or mutual funds. This is because, while there are always peaks and valleys, the stock market has traditionally appreciated 10-15% per year andinvesting in the market is a good way to increase your nest egg. Most people would say they wish they had more real estate in their portfolio, as well.Even though we are experiencing an adjustment in real estate prices at the present time, in the long run, owning real estate will do very well, and people are smart enough to know that having two or more homes appreciating is better than just one. So if you own a home and you have equity, that has appreciated significantly in the past few years, what if you could refinance your current home or buy your next home with a home financing tool that pays you to accumulate surplus funds in your bank account at a higher rate than the new 4% checking accounts and at a higher rate than 3-4% CD’s ? It pays the same amount as your mortgage, typically 6-8%. Actually it is an innovative home financing line of credit, not a traditional mortgage. And it allows you to essentially BORROW LESS, by SAVING MORE. This is the Home Ownership Accelerator, the HOA! You need to be a well-qualified buyer with surplus cash flow each month that you can choose to accumulate in the HOA. Since you are borrowing less, you are paying less interest expense compared to a traditional mortgage. That saved interestexpense can be several hundred thousand dollars. The HOA enables you to accumulate these saved dollars and invest them in higher earning assets like rental properties.It is truly a home financing power tool. Contact ourHOA sales team to explore how the HOA can work for you.
The mortgage market has been through a roller coaster ride ever since the end of the Dot Com boom/bust in the early years of the 21st century. Interest rates were dropped to help stimulate the economy and they were kept low. This led to lots of homeowners refinancing their 30 year mortgages to lock in lower rates. Also homeownership was more affordable due to lower rates and more people flowed into the real estate marketplace as buyers. This increased demand and builders increased their activities to supply that demand. Also financial institutions were encouraged to lend money on favorable terms to consumers to help increase the rate of homeownership in the country. It also led to lots of investors jumping into the market to profit from high rates of appreciation.
You can see that the trends of increased affordability through lower payments and lower principal pay off have led to headaches for subprime buyers and for highly leveraged investors. Subprime buyers were sold on the dream of home ownership, on low initial payments and on the likelihood of being able to refinance to pull out equity as the home appreciated in the California market.
The alternative of making higher payments and taking shorter loan terms is not really affordable for most homeowners.
There is a new approach that well qualified buyers will want to look into. That is taking advantage of high interest rates being offered by banks for deposits these days. Schwab, for example, pays 4% on bank deposits and pays for any ATM charges so the consumer can use any ATM to withdraw money. The banks are looking for consumer deposited funds to loan out for mortgages because traditional sources of investor dollars have become more scarce and more risk averse.
So consumers that wish to earn higher interest rates on bank accounts can earn more than the traditional 0% that they usually get on checking accounts.
The hottest loan of this type is the Home Ownership Accelerator offered by CMG Financial and GMAC bank. It pays the same amount as the homeowner’s mortgage! To take advantage of the HOA the homeowner refinances the current mortgage into an HOA loan, a joint bank account and first position home equity line of credit. The homeowners that benefit most from the HOA are those who have strong income and active savings and investment accounts. The HOA pays a higher rate of interest than checking, savings, CD, money market accounts. So just transferring funds from idle or low earning accounts will accumulate interest AND simultaneously reduce the home loan balance so the homeowner actually pays LESS interest expense on the loan. The innovative feature of the HOA is that any funds transferred into the HOA can easily be transferred out whenever needed for emergency needs. Unlike making addtional or prepayments to a conventional mortgage, no refinance is necessary to access your equity.
There is a special benefit for homeowners who are business owners, they are able to manage the cash flow of their businesses to further reduce their residential loan balance and earn a higher return on their business working capital.
ge market The Home Ownership Accelerator is the better answer to the under performing “buckets of liquid funds” that homeowners have lying around. By refinancing the homeowner’s current mortgage into a combined interest bearing checking account and innovative home loan the homeowner can benefit from really high interest rates,uch higher than the new bank accounts from Schwab and others. Imagine earning interest, compounded daily, at the same level as your mortgage! http://www.homeownershipaccelerator.net
Here are monthly rates from September 1989 to the present. You can see that the 30 year fixed rate is anywhere from 1 to 5 percentage points higher than the variable 1 month LIBOR. This is so because the fixed rate needs to account for the potentially higher rates that it will forgo if the funds were to be loaned out later date at a higher rate. The 1 month LIBOR is normally close to the FED funds rate and represents the cost of short term funds, so a lender basing his loan products on the LIBOR has less risk of interest rates going up and not being able to take advantage of lending at the higher rate. Thus a loan based on the LIBOR can start out at a lower interest rate. You can see that the LIBOR rates have been as much as 5 percentage points lower than the comparable fixed rate. The FED funds rate is seen as a financial management tool by the FED in combating recession and inflation. So if recession is seen as a problem the FED funds rate will go down. Inflation has not been a major problem in recent decades, especially since in our global economy with imports coming from all over the world reducing the cost of products and with outsourcing reduceng the cost of services, prices should not be uncontrollably on the rise in the forseeable future so inflation is not likely to be on the list of problems to be avoided by the governors of the FED. The FED will tend to favor higher interest rates to combat inflation and lower interest rates to ccombat recession. Recession, however, is a cyclical threat that the economy faces regularly. See the chart indicating past recessions and the FED funds rate. I expect interest rates to stay low and go even lower based on FED actions.
The LIBOR does fluctuate away from the FED funds rate from time to time due to reluctance of European banks to lend to each other out of concern for losses that banks may have to write off due to sub-prime based loans going bad. But since the FED and the ECB (European Central Bank) strive to use the same interest rate medicine to nurse their respective economies, gaps between 1 month LIBOR and the FED funds rate is likely to be short term and since the loans based on LIBOR are variable the borrower will reap the benefits of lower rates more than with a fixed rate.
Based on this historical rate comparison, I would certainly not be afraid of variable interest rate loans.
